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Unformatted text preview: Exam 3 Additional problems and review Notes: 2 Suppose a firm has expected aftertax cash flows of $1200 per year forever (beginning one year from today). The firm is completely equity financed and has a beta of 1.3. Suppose the riskfree rate is 5% and the market risk premium is 8%. The tax rate is 35%. Ignore default risk. What is the value of the firms equity? What is the value of the firms debt? What is the value of the firms assets? What is the firms cost of equity? What is the firms cost of debt? What is the firms WACC? 3 Notes: value of equity = 1200/.154 = 7792.21 value of debt = NA value of assets = 7792.21 cost of equity = 5 + 1.3*8 = 15.4% cost of debt = NA WACC = 15.4% 4 Now, consider the same firm, but suppose that it has restructured its capital and now has $4000 in debt. What are the aftertax cash flows for the levered firm? What is the present value of these cash flows (this is the value of the firms assets)? What is the value of the firms debt? What is the value of the levered firms equity? 5 Notes: Expected cashflow = 1200 + 4000 x .05 x .35 = 1270 V = 7792 + .35 x 4000 = 9192 D = 4000 E = 5192 6 What are the cash flows to creditors? What are the expected cash flows to shareholders? What is the expected return on equity?...
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 Fall '07
 DONCHEZ,RO
 Finance, Corporate Finance

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